Tony Wickenden: The lessons from failed pension transfer IHT case

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Last week’s article looked at the case of Mrs. Staveley versus HM Revenue & Customs in relation to pension transfers made by people in ill health within two years of their death and how an inheritance tax charge could arise.

As well as considering whether there was a transfer of value under section 3(1) IHT Act 1984 (which the Upper Tribunal concluded there was not), it was also necessary to consider whether there had been an omission to exercise a right under section 3(3) IHT Act 1984.

On the question of an omission to exercise a right, HMRC had previously won the case in front of the First Tier Tribunal. For section 3(3) to apply, the omission must be deliberate and lead to an increase in the estate of another person. In this case, those other persons were Mrs Staveley’s sons.

In the UT, the estate did not dispute the fact that Mrs Staveley had expressed a deliberate omission to take lifetime benefits. However, there was a challenge on the basis her omission did not amount to a disposition, which was required for the provision to apply.

In effect, the estate argued that the increase in the estates of Mrs Staveley’s sons (who benefited from death benefits under the Axa personal pension plan) were not sufficiently connected to the non-payment of benefits to Mrs Staveley.

The estate argued the sons benefited because of the exercise of a discretionary power by the scheme administrator. While the scheme administrator was likely to exercise this in favour of the beneficiaries named in the letter of wishes, there was no guarantee they would follow this instruction. The UT said:

“In our judgment, the proximate cause of the increase in the estates of the two sons was the exercise of the discretion of the scheme administrator. Their estates were increased “by” the exercise of that discretion, and not by the omission of Mrs Staveley to exercise her right to take lifetime benefits.

“There would have been no increase in the value of the son’s estates but for the omission to take those benefits, but the test is not a “but for” test and it was not the omission which had the effect of increasing the sons’ estates; it was the exercise of the scheme administrator’s discretion. It follows, therefore, that the conditions of s 3(3) are not satisfied with respect to Mrs Staveley’s omission, and that omission cannot be treated as a disposition or as a transfer of value within s 3(1).”

The UT therefore accepted the taxpayer’s arguments and HMRC lost on both counts.

While clearly dependent on its own facts in relation to the key point of principle and not giving a blanket exemption from IHT problems on transfers made within two years of death, this case could be of considerable importance in determining the future IHT treatment of transfers of pension schemes.

Of course, since the Finance Act 2011, the omission to exercise a right rule in section 3(3) is no longer relevant to registered pension plans (sections 12(2ZA) and 12A IHT Act 1984). HMRC undoubtedly challenges pension transfers made by people in seriously ill health under section 3(1), though.

It is to be hoped that following this judgment, irrespective of ill health, if it can be shown that the sole reason for the transfer was other than to confer a gratuitous benefit on another person, then no lifetime transfer of value should arise for IHT purposes (even if such a benefit is a consequential result).

As I say, much will depend on the facts of each case and it is important to remind potentially affected individuals of this. Reasons other than conferring gratuitous benefit might be commercial, such as a transfer to reduce plan charges, or to gain access to a greater range of investment funds or pension flexibility.

It is not certain how easy this will be to demonstrate and how far one needs to go to distance the pension transfer from the payment of death benefits that are free of IHT.

It will be interesting to observe HMRC’s reaction to the decision in this case and we do not yet know if it intends to appeal. Current disputed cases should certainly be reviewed in light of this judgment. HMRC will hopefully issue revised guidance in due course.

Tony Wickenden is joint managing director of Technical Connection. You can find him Tweeting @tecconn